Economic motivation must spur climate action

The agreements reached at the Paris climate summit at the end of 2015 bought the global economy some desperately needed breathing room to shift to a low-carbon growth path. But for these commitments to make any difference on the ground, market forces must spur changes in the basic motivation that decides business activities. This will happen if—and only if—the economics profession builds in low-carbon measures in the investments and policies they routinely promote for economic growth.

After all, climate change is determined as much by economics as by science. So long as there is no price for air, businesses will continue to emit carbon without restraint. But emissions hurt everyone, not just emitters. Economic theory is clear that these spillover effects (or externalities) must be priced. But mainstream economists model economic growth without accounting for emissions and their damages, and businesses respond to the faulty signals.

To be sure, recent papers have called attention to the punishing costs of climate change. Moreover, economists have proposed carbon taxes to make emitters pay. But where it really matters for the directions countries take, growth policy does not see investing in natural capital the same way it does in physical capital or in human capital. Projections, be they from the prestigious International Monetary Fund or from international banks, would have you believe that growth can continue indefinitely without taking climate action.

This failure of economists and businesses goes further. Mainstream policy advice has not only ignored climatic impact as a game changer, but has long viewed environmental protection, the foremost climate action, as a drain on growth. Consider these examples at the institutional level and the global level.

In the World Bank’s ease of doing business index, a country can improve its ranking by lowering environmental protection. Adulation from the Economist or the Financial Times and self-congratulation follow surveys, even as this is a deeply flawed indicator favoring unbridled deregulation. Now a recent proposal at the World Bank—not dissimilar to some of the thinking at the new Asian Infrastructure Investment Bank and New Development Bank—is to weaken environmental and social safeguards that accompany investment projects, even though damages from such tactics to speed loan processing have proven to be self-defeating.

At the global level, it is striking that delegates from 195 nations at the Paris summit agreed to keep the world temperature within 1.5 degrees Celsius above the pre-industrialization level. But equally remarkable is that they could not match that realization with binding commitments of measures that would deliver the needed carbon targets. Even as inaction spells doom to growth and well-being, the collective response falls dangerously short because of the opposing—and ultimately wrong—belief that climate measures are a drag on growth.

The economics profession must relentlessly factor in the cost of climate change and the benefits of action, just as it did the gains from investment in education or financial infrastructure. Economists influenced open trade, agricultural price liberalization, and macroeconomic stability: they must do the same for climate change.

Three reasons explain why economics, business, and politics have downplayed environmental spillovers—measurement problems, emphasis on short-term gains, and business lobbies. What matters is what you can measure. The health costs of global warming are hard to measure and so they get short shrift. Furthermore, a herd mentality in pushing for immediate growth keeps economists from tabling concerns about sustainable growth. Immediate growth coincides with electoral cycles, which leads politicians to ignore future costs. Also, special interests block efforts to make firms pay for damages inflicted. Some accuse corporations of spreading uncertainty about climate change, for example, Exxon Mobil allegedly suppressing evidence on fossil-fuels.

Externalities do eventually get addressed when their costs become unbearable. So sooner or later we’ll switch to a low-carbon economy. The question is: how quickly? That shift should aim for a soft, not a hard landing, for which three urgent steps are necessary.

First, economists must develop measures of hard-to-estimate climate impacts, and integrate them into the growth calculus for policy. Second, business leaders should insist that the carbon footprint accompanies every investment, analogous to other requirements like having a tax registry, and international banks should stop financing coal projects. Third, economic advice on growth policies should signal that sound regulation supports—and does not detract from—lasting growth. Integral to this advice must be the removal of subsidies for fossil fuels and the imposition of carbon taxes.

Author

Visiting Professor - National University of Singapore

Former Senior Vice President - World Bank

Global warming is far and away the biggest known barrier to continuing economic growth. The economics profession charged with guiding growth and people’s well-being cannot remain ambivalent, but must help blaze a new trail.

This blog was first launched in September 2013 by the World Bank in an effort to hold governments more accountable to poor people and offer solutions to the most prominent development challenges. Continuing this goal, Future Development was re-launched in January 2015 at brookings.edu.